A House of Lords inquiry has been critical of the UK's 'big four' auditing firms' role in the financial crisis. Photograph: Frank Baron

Britain's big four auditors have a "disconcertingly complacent" view of their role in the financial crisis, a House of Lords inquiry has said as it urged the Office of Fair Trading (OFT) to review the dominance of the four firms.

The largest of the audit firms, PricewaterhouseCoopers (PwC), came in for particular criticism on Wednesday in the Lords' report over its audit of Northern Rock.

Auditors should have given "going concern" warnings over banks in several instances in the run-up to the crash, essentially outlining the auditor's worries about whether the bank could continue trading, the Lords said. The economic affairs select committee said that Northern Rock's business model was "dangerously risky … we are astonished that PwC appeared not to recognise an amber light that flashed so brightly".

It added that the auditors appeared to be blind to the problem. "We were provided with no evidence from the big four that they did, in fact, have any concerns [over banks' viability]."

The other major firms escaped direct censure – KPMG and Deloitte were the only others to audit major British banks at the time, while Ernst & Young audited Lehman Brothers and is under scrutiny over the collapsed Wall Street's bank alleged use of repurchase agreements to temporarily flatter its balance sheet when reporting its numbers.

But the Lords did accuse the profession generally. "We do not accept the defence that bank auditors did all that was required of them. In the light of what we now know, that defence appears disconcertingly complacent. It may be that the big four carried out their duties properly in the strictly legal sense, but we have to conclude that, in the wider sense, they did not do so."

Big four dominance attacked

The Lords' inquiry raised a number of issues about the structure of the profession, calling for the OFT to investigate the dominance of the big four. Historically, similar reviews have achieved little, with national regulators struggling to deal with what is a global problem. The Lords said that the OFT's "findings would need to take full account of the international dimension, but the UK could give a lead internationally by undertaking such a review".

Auditors should talk to regulators more about their concerns over banks, the Lords said, with communication having broken down after the Financial Services Authority (FSA) assumed regulatory control in 1997. It also recommended regular rotation of auditors by FTSE 350 companies and restrictions on the audit firms' non-audit work for clients.

The committee also said that international financial reporting standards (IFRS) had played a role in the crisis. UK companies moved to IFRS in the middle of the last decade, with critics saying the rules promote volatility and helped inflate the banking bubble through their association with fair value accounting.

The peers said the previous system – UK generally accepted accounting principles (GAAP) – placed greater emphasis on prudence in accounting and was preferable to IFRS. "The weaknesses of IFRS are especially serious in relation to bank audits."

PwC senior partner Ian Powell said: "I am surprised by the committee's claim that there was a 'dereliction of duty' given their stated view that auditors fulfilled their legal duties."

"We stand by the quality of our audit work performed in relation to Northern Rock. However, throughout, we as a firm, like other market participants, have accepted that there are lessons to be learned from the financial crisis and we have already implemented a number of measures to reinforce the relevance of the audit," PwC added.

Responding to the Lords call for a full OFT inquiry an OFT spokesman said: "We are already considering a targeted market study into the existence and effect of UK bank covenants, which could potentially limit companies' auditor appointment choices. On wider issues in the market, a key question is whether these can be most effectively resolved by the UK competition authorities acting alone, or through coordinated action with international organisations, such as the OECD or the European Union."